Summary and conclusionsThis note points out the historical pattern that, since World
War II, the economic growth of the host countries of the Summer Olympics
usually suffers in the year following the Games. Will China break this
50-year tradition, particular as the weakness in the US economy could be
more protracted and the delayed impact of the interest rate hikes and
the CNY appreciation should start to act on the economy just as the
Olympic torch burns out?

Our focus is on both the capex cycle and the (admittedly unmeasurable,
fickle and non-mechanical) sentiment effect of hosting an Olympic
Games. While there are a multitude of other factors likely to move the
Chinese economy in the next couple of years (including those mentioned
above), we assume them away to bring into sharper relief the one-off
effects of hosting such an event, through the capital expenditure cycle.

Historical patternWe looked at the economic performance of the Olympic host
countries (OHCs) since 1956. The striking common feature is an
acceleration in GDP growth in the year in which the Olympics were held,
followed by a year of sub-par growth. Of the 11 cases we examined since
1956, only the US (Atlanta) in 1996 did not show a slowdown following
the Olympics. The slowdown was particularly stark in Australia (1956),
Japan (1964), the US (1984) and Korea (1988). Spain actually fell into
a recession in 1993. In the two most recent Olympics (Athens and
Sydney), both Greece and Australia decelerated by 1.5-2.0% between the
year before and that after the Olympics.

We looked at how the growth, industrial production and national
investment growth changed in the 10 quarters before and after the
Olympics compared to the average over that period. Average GDP growth
deviation from trend tends to decelerate from 1.1% in the year prior to
the Olympics to 0.9% in the year of the Olympics, followed by a slowdown
to -1.2% in the following year. For investment, the slowdown is even
more pronounced: from a 3.3% growth above-trend surge prior to the
Olympics to a peak contraction of close to 7% below-trend post-Olympics
(for a peak-to-trough swing of 10%). Also, in terms of timing, it is
visually clear that investment has led this up and down cycle around the
Olympics. Industrial production exhibits a similar trend. But in terms
of severity, it is somewhere between the GDP and the investment
trajectories.

The reasons are intuitiveThis growth profile should not be too surprising. In the
lead-up to the Olympics, it is reasonable to expect large investment,
particularly in non-dwelling and hotel construction. Tourism receipts
should also surge in the Olympic year. In the case of Beijing, the
issue of ‘prestige’ could also be important, as China tries to showcase
its economy and country: doing so costs money and such efforts show up
in the GDP. The front-loading of infrastructural and other physical
investments naturally implies a slowdown following the Olympics. Just
as importantly, a positive sentiment effect may accompany the Olympics,
buoying consumption and business investment in areas that are not
directly related to the Games or the host city. Such a build-up could
be followed by an anticlimactic sentiment effect, as the hype cools down
and the world’s attention focuses elsewhere.

Currency depreciation following the OlympicsWe also examined the performance of the currencies of OHCs.
One problem was that, prior to 1971, most of the exchange rates were
pegged to the USD and to gold. Pressures on the economy could not be
reflected/expressed through exchange rates. We thus focused on
experiences after 1972. In Canada (1976), the US (1984) and Spain
(1992), the currencies of the OHCs depreciated significantly in the two
years after the Olympics. In the case of Sydney (2000), the AUD
weakened modestly in the ensuing year. However, in the cases of Seoul
(1988) and Athens (2004), USD/KRW and EUR/USD remained essentially flat
over the two-year period, while the USD actually strengthened following
the 1996 Atlanta Olympics. Therefore, with a few exceptions, the
currency of the host country depreciated when its economic growth
decelerated following the Olympics.

The case of ChinaHow will the Summer Olympics affect China’s growth rate and the
CNY? It would be very difficult to have a precise answer to the above
question, mainly because there are direct and indirect effects of the
Olympics on economic activities and the value of the CNY. We have the
following thoughts:

Thought 1. China is a big country. The size
of the host country is important, as it is essentially only the city
that is hosting the Games that should experience large swings in
investment and capex cycles. For countries like the US and China,
Atlanta or Beijing hosting the Olympics should not have nearly as
big an impact on the economy as, say, Seoul, Barcelona and Sydney
would have on Korea, Spain and Australia. Thus, we suspect that
the contraction in capex following the Beijing Olympics is not
likely to be as large as the historical average suggests. The
slowdown in US GDP in 1984 (Los Angeles) is miniscule; in 1996
(Atlanta), US growth actually accelerated, for the simple reason
that what happens to a city in a big country shouldn’t dominate the
country’s GDP.

Thought 2. China is a diverse country. China
is not monolithic, politically, economically or geographically. In
a way, China can be broken down into the East (the coastal area),
the Central and the West. The gradation in the levels of economic
development and infrastructure build-up is immense across these
three broad regions. If the negative demand shock from the US hits
the East, the demand for infrastructure and other investment is
likely to remain high for the Central and the West. While the
positive psychology associated with the ‘Big Event’ is likely to
have been a stimulus for the entire country in recent years, we
don’t expect the abatement in investment to be very synchronised
across the three broad regions right after the Summer Olympics.

Thought 3. The US business cycle. In our
view, the US business cycle will likely show weakness leading to the
Olympics, which starts on August 8, 2008, and strength after the
Olympics – precisely out of sync with the typical growth cycle
surrounding an Olympic Games. This should help to smooth out the
growth cycle for China between 1H and 2H.

Thought 4. The PBoC will, for now, treat the
economy as innocent until proven guilty. The PBoC still has its
foot on the brake, though it is now more concerned about the
prospective recession in the US. For now, the PBoC has continued to
let the CNY appreciate rapidly (so far this year, USD/CNY has moved
at an annualised pace of 16%), because inflation remains stubbornly
high. The economy will be assumed to show enough resilience against
a growth slowdown. But as soon as Beijing comes to the view that an
outright US recession is the more probable scenario, it is likely to
slow down the pace of interest rate hikes and currency
appreciation. But for now, given that the data coming out of the US
remain relatively mixed (i.e., not enough to favour a recession over
a mere slowdown), USD/CNY may continue to be guided lower at a rapid
pace.

Bottom lineWe fully acknowledge the historical regularity with which the
growth rate of the country that hosts the Summer Olympics tends to show
a pronounced slowdown following the Games, and suspect that we might see
this trend in China as well. However, there are special factors that
are likely to mute the magnitude of this slowdown. Where USD/CNY goes
will still be driven more by the overall path of domestic growth in
China and the US business cycle. The Beijing Olympics will likely be a
secondary – though legitimate – factor for the growth outlook in China.